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Understanding the difference between 'C' and 'S' corporations

When business owners make the decision to organize as a corporation, they do so for very strategic reasons. Indeed, as we discussed in a previous post, corporations insulate directors, officers and shareholders from being personally liable for corporate debts and provide a sound infrastructure through which to exercise control.  

Another potential advantage of organizing as a corporation is favorable tax treatment, something we'll explore further in today's post.

I've heard the term S corporation used in reference to taxation, what exactly is this business entity?

An S corporation enjoys all of the aforementioned benefits associated with incorporation plus the ability to be treated as a partnership -- or "pass-through" entity -- for federal tax purposes.

What this essentially means is that the S corporation avoids double taxation -- i.e., both the corporation and the shareholders paying federal income taxes. Instead, only the individual shareholders are taxed directly on their share of profits.

Why don't all businesses seek the favorable tax treatment afforded by organizing as an S corporation?

The Internal Revenue Service has established certain eligibility requirements for registering as an S corporation, including:

  • No more than 75 shareholders
  • Shareholders cannot be non-resident aliens
  • Only one class of stock must be issued

What then is a C corporation?

A C corporation is essentially any standard corporation that either cannot or does not elect to organize as an S corporation. For tax purposes, C corporations are subject to double taxation, such that they must pay a federal corporate income tax and shareholders must also pay federal income taxes on any dividends received.

What government entity oversees designation as an S or C corporation?

The determination as to whether a business entity is an S or C corporation is made by the Internal Revenue Service, meaning all filings go through them. The Corporations Division of the Georgia Secretary of State has nothing to do with these designations.

To learn more about business organization and business law issues, consider speaking with an experienced legal professional.

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